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What’s Your Valuation? If You’re Thinking of Selling, Wait a Bit Longer

business valuation

The spread of COVID-19 halted a lot of mergers and acquisitions in 2020. Not so in 2021. This year, private buyers have regained confidence and are targeting, in large part, the technology services world. For channel partners, this can spell opportunity. But the process of selling a business, and maximizing value and proceeds, is complicated.

John Holland, managing director of Corporate Finance Associates, understands this. That’s why he’s giving MSP Summit attendees a primer on valuations and IT trends. As a preview, know that, above all, acquirers are looking for companies that have built strong recurring revenue and long-term customer relationships. Certain partner types will struggle to meet those requirements.

In this Q&A, edited for length, Holland, an investment banker, provides helpful insight about what to expect from his session, “Channel M&A: How to Achieve Maximum Value.” Plan to attend on Monday, Nov. 1, from 4:35-5:10 p.m. (The MSP Summit is collocated with the Channel Partners Conference & Expo.)

Channel Partners: Speaking to the session description, how are valuations determined for channel partner firms?

John Holland: Firstly, since every business is unique, there is no universally agreed “rule of thumb” that applies to business valuations. The true value of any technology services business is determined in the tug-of-war of free market forces when the business (or an interest in the business) is sold in an auction-like process. Investment bankers orchestrate a confidential, auction-like process that synchronizes the offers and pits the prospective acquirers against each other in order to help business owner maximize the value of their businesses and optimize the deal structure. 

Business owners can pay thousands of dollars for a business appraisal that shows the theoretical valuation of the business based upon several valuation methodologies, such as comparable analysis, precedent transactions analysis, and discounted cash flow analysis.  However, such appraisals, which are typically used only for litigation or tax purposes, are really just educated guesses that might differ wildly from an actual sale prices of businesses.

Corporate Finance Associates' John Holland

CP: What types of acquirers are most interested in channel partner-run businesses, and why? 

JH: There are two types of acquirers of technology services businesses. Strategic buyers are large technology services companies that acquire smaller technology services companies to fill gaps in their services portfolio, expand into new geographic territories, eliminate a competitor, achieve scale, secure customers or advance into new technologies. 

Private equity firms are sophisticated financial investment firms that acquire entire companies or an interest in companies with the goal of achieving rapid growth over a few years. … Private equity firms typically sell their companies or take their companies public within five years.

CP: How might these acquirers approach a channel partner differently than they might, say, a privately held supplier?

JH: Many acquirers search for what they call ‘proprietary deals’ — that is, deals for which they are the only bidder. Many private equity firms have teams of telemarketers who cold-call owners of technology services. … The acquirers understand that competition between prospective acquirers works to the seller’s benefit with higher selling prices. They also understand that most business owners do not know how to value their businesses or negotiate the sale of their businesses. So, the negotiations are asymmetric with the acquirer having skilled financial professionals, experienced M&A attorneys and CPA advisors on its side.  Investment bankers serve to level that field.

CP: If a channel partner wants to sell, how might she/he prepare for that, with these acquirers were discussing in mind?

JH: First, the selling price is not as important as the amount of after-tax proceeds. It’s important for every business owner to develop a tax strategy under the guidance of a tax attorney or a CPA with expertise in estate planning. Planning a few years ahead of the sale of a business can save a business owner millions of dollars on taxes. 

Second, having a confidential conversation (under an NDA) about the business with an investment banker who has expertise in the technology services business could help any business owner develop a better understanding of the aspects of the business that enhance the valuation and the aspects of the business that diminish the valuation. For example, if the particular business has a top customer that represents 50% of total revenues, then the CEO could enhance the value of the business by focusing resources and sales incentives upon new business development, which should diminish the business’s dependence upon that top customer.    

CP: Talk a bit more about all of that.

JH: In addition to all of the above factors that influence or determine value, the type of technology services business determines value. The lowest-value technology services firms are what we call “box-moving VARs.” … On the other end of the hierarchy of value continuum are MSPs. Such companies develop long-term relationships with clients with recurring revenues. … Many private equity firms and strategic buyers are attracted to MSPs, and that herd of buyers causes enterprise multiples of MSPs to skyrocket – especially large MSPs. There is a spectrum of technology services companies in between the low-value VARs and the high-value MSPs. For example, professional services firms generate high profit margins and sometimes achieve high growth, but the project-by-project nature of these businesses causes acquirers to perceive higher risk – especially during economic downturns.    

CP: Any other thoughts pertinent to this session you'd like to add?

JH: Selling a business is a very, very difficult, time-consuming process. It can take over a year to sell a business, and some businesses never find an acquirer. For most business owners, the sale of the business is the largest and most important financial transaction in their lives. Just as any business owner would go to a cardiologist for guidance on heart issues, it is important for business owners to reach out to experts like investment bankers, M&A attorneys and CPAs with M&A experience.   

MSP Summit, M&A